CV

Published and Forthcoming Papers

The Wall Street Walk when Blockholders Compete for Flows.
Journal of Finance (forthcoming)

Effective monitoring by equity blockholders is important for good corporate governance. A prominent theoretical literature argues that the threat of block sale ("exit") can be an effective governance mechanism. Many blockholders are money managers. We show that when money managers compete for investor capital, the threat of exit loses credibility, weakening its governance role. Money managers with more skin in the game will govern more successfully using exit. Allowing funds to engage in activist measures ("voice") does not alter our qualitative results. Our results link widely prevalent incentives in the ever-expanding money management industry to the nature of corporate governance.

Working Papers

Warehouse Banking

We develop a new theory of banking that provides a view of liquidity creation that differs significantly from the existing paradigm. The theory links modern-day banks to their historical origin as warehouses. When the warehouse accepts deposits, it issues “warehouse receipts,” claims on deposits it safeguards, as “proof” of deposits, but this suffices neither to create liquidity nor to make the warehouse a bank. Our main result is that the warehouse becomes a bank and creates ex ante aggregate liquidity only when it makes loans in “fake” receipts-i.e. receipts that are observationally identical to authentic receipts, but are not backed by deposits. In other words, what creates liquidity and economic growth is not banks’ deposit-taking per se—banks issuing receipts in exchange for the deposit of goods—but rather the combination of this with account-keeping (i.e. warehousing) and fake-receipt-based lending. On the policy front our theory suggests that the currently-contemplated suggestions to have narrow banking or impose liquidity requirements will inhibit aggregate liquidity creation, whereas increasing bank capital will enhance bank liquidity creation. This stands in contrast with the policy prescriptions of models of bank liquidity creation based on deposit-taking and lending but without warehousing and fake-receipt issuance. We also show that a tighter central bank monetary policy does not always reduce liquidity creation—we provide conditions under which it leads to higher liquidity creation by banks.

Bank Capital, Bank Credit and Unemployment

Since the worst employment slumps follow periods of high household debt and almost all household debt is provided by banks, we theoretically investigate whether bank regulation can play a role in stimulating employment. Using a competitive search model, we find that levered households suffer from a debt overhang problem that distorts their preferences, making them demand high wages. In general equilibrium, firms internalize these preferences and post high wages but few vacancies. This vacancy-posting effect implies that high household debt leads to high unemployment. Unemployed households default on their debt. In equilibrium, the level of household debt is inefficiently high due to a household-debt externality—banks fail to internalize the effect that household leverage has on household default probabilities via the vacancy-posting effect. As a result, household debt levels are inefficiently high. Our results suggest that a combination of loan-to-value caps for households and capital requirements for banks can elevate employment and improve efficiency, providing an alternative to monetary policy for labor market intervention.

How does competition among financiers affect the nature of borrowers’ investments in the economy and how does this, in turn, affect which financial intermediaries arise as lenders in equilibrium? This paper develops a general equilibrium model to address these questions. There are four main results. First, efficient project choices arise in equilibrium for only intermediate levels of competition. Entrepreneurs invest excessively in (riskier) specialized projects at low levels of credit market competition, and invest excessively in (safer) standardized projects at high levels of credit market competition. Second, the emergence of relationship lending eliminates the investment inefficiency for low levels of competition, but not the inefficiency for high levels of competition. Third, this residual investment inefficiency encourages the emergence of highly levered specialized intermediaries that resemble private equity firms and that eliminate the investment inefficiency at high levels of competition. Fourth, these private equity firms arise only in competitive credit markets and fund only specialized projects with high expected returns. The model thus explains the co-existence of bank lending and private equity funding in general equilibrium.

Do Institutional Investors Improve Capital Allocation? (Submitted)

This paper contrasts profit-maximizing individual investors with career-concerned portfolio managers in terms of their effect on firms' funding, economic welfare, and shareholder wealth. The finance literature has shown the negative effects of portfolio managers' career concerns. In contrast, I show a positive side: I find that delegated portfolio managers allocate capital more efficiently than do individual investors, which promotes investment, fosters firm growth, and enriches shareholders. Funding markets require information, but individual speculators are sometimes disinclined to acquire it; in contrast, the career
concerns of portfolio managers lead them endogenously to embed information into prices and to trade more often. Finally, I show that career-concerned speculators mitigate the effect of the winner's curse and thereby reduce the discount in a seasoned equity offering.

The Downside of Public Information for Delegation

We theoretically investigate the effect of public information—such as credit ratings and securities analysts’ reports—on investor welfare in the context of delegated asset management. Specifically, we ask: does more precise public information increase investor welfare by decreasing an asset manager’s informational advantage and, thereby, mitigating the agency problem between him and his client? We show, first, that public information does not align incentives and, second, that decreasing the precision of the information is Pareto improving. Interpreting public information as credit ratings, this suggests that widening ratings categories makes everyone better off. Our results are consistent with some empirical facts about asset management fees.

Firms issue securities to fund projects in an opaque market in which investors cannot infer the value of assets. As a result, good firms, unable to differentiate themselves, bypass profitable investment opportunities: informational inefficiency leads to allocational inefficiency. A rating agency enters the market, providing certification for a fee; it not only fails to inform investors and encourage investment, but also captures a tidy share of firms’ rents. With two agencies competing in fees and disclosure rules, though, problems disappear—information is complete and investment efficient. When the agencies interact repeatedly they are prone to collusion. When investment opportunities are plentiful they rate honestly, but charge fees so high that some positive NPV projects go unfunded. On the other hand, when there are few investment opportunities in the economy they overrate and good firms don’t invest. Regulatory prescriptions of bundling ratings with CDS issues and flooring fees solve the problem.